Emerging market debt weaker as Treasuries stumble as U.S. rates pose a threat

By Reshmi Basu and Paul A. Harris

New York, April 5 - Emerging market debt traded lower during Monday's session in response to a second day of sliding Treasury prices.

Stronger-than-expected U.S. service industries numbers coupled with Friday's unexpected payroll surge provided more evidence that the U.S. economy is rebounding quicker than anticipated - opening the doors to a possible early Federal Reserve interest rate hike.

"The whole lookout on U.S. rates" has brought down emerging market debt, said a fund manager.

In trading Monday, the JP Morgan EMBI Global index fell 0.34%. But its spread to Treasuries tightened by four basis points.

Interest rate volatility has displaced political risk as the driver for emerging market debt, according to a buy-side source.

"What I think is on the uprise is interest rate risk in the U.S.," said the buy-side source.

Political uncertainty in Latin America does not necessarily translate into a harbinger of doom as long as economic policies are not sidetracked, said the buy-side source.

"Conditions in Venezuela can only improve. It would be tough to make things worse than they are.

"Political risk is only a risk if it leads to worsening economic policies", said the buy-side source.

For instance, the decline in popularity of Brazil's president Luiz Inacio Lula da Silva is a natural function of holding office, the investor said.

But as long as he maintains his economic policies, there is no imminent threat to the country's debt.

Investor worries erupted over a late-March poll that showed Lula's popularity had dropped to a record low 35% for failing to stimulate economic growth.

"All of us guys get scared," said the buy-side source. "What is he going to do to keep his popularity?"

However, last week, Lula and his finance minister reiterated their commitment to their economic policy.

Taking a firm stance, Lula told factory workers: "I am not willing to take Brazil on an adventure whose outcome we already know."

"This reassured the market," said the buy-side source.

"The non-payroll numbers are the fly in the soup here."

The two forces that will create duress for the market are the obvious, rate hikes and to a lesser degree growth.

"That [growth] doesn't seem to be a problem right now. That seems very strong but as capital flows dry up because the Feds tighten, it's not going to make things easier for the market."

Furthermore, the psychological expectations of an interest hike will impact how April's inflows from amortization payments will be directed.

In the second week of April, Brazil will dole out $5 billion in interest rate payments.

"The expectation was that it would be re-plowed into assets," said the buy-side source.

"Probably, with this interest rate volatility, you've got to pull back on that a little bit."

However, a substantial amount will be reallocated to the asset class given the positive technicals for the sector, the source predicted.

"The issues are actually outside the sector," said the buy-side source.

"We have Indonesian elections. We have political risk in Latin America, but in general thing are getting better not worse.

"The issue is, what's the Fed going to do? What's going to happen to global capital flows? Not, is Brazil going to be around next week," he added.

"In the summer of 2002, before the Brazilian election, there was a lot more fear about whether neo-liberalism was over. What will Lula do? What was going on in Peru?"

Secondary prices weaker

In trading, the Brazilian bond due 2040 was at 103.90 bid, 104.25 offered, down 0.33, while the country's bond due 2030 was down a dollar.

However, Brazil's benchmark C bond was 0.25 higher at 96.5 bid, 96.625 offered.

Also seen lower was Russia's debt. The sovereign bond due 2030 was at 97.56 bid, 97.75 offered, down 0.91. Russian natural gas producer and exporter OAO Gazprom's 9 5/8% bond due 2013 was at 113.375 bid, 113.875 offered, down 0.31 on the day.

And Ukraine was also weaker. Its bond due 2013 was at 102.75 bid, 103.25 offered, down 0.70.

Pipeline rumors in Peru and Ecuador

Meanwhile, unconfirmed rumors of possible new issuance circulated Monday.

The Republic of Peru is rumored to be coming to market with a $500 million offering via JP Morgan.

Another rumor is that the Republic of Ecuador will be buying back $100 million of bonds due 2030 via Credit Suisse First Boston.

"Interesting how they fund this. They are running very large arrears on their budget," said a fund manager of the possible Ecuador buyback.

© 2015 Prospect News.
All content on this website is protected by copyright law in the U.S. and elsewhere. For the use of the person downloading only.
Redistribution and copying are prohibited by law without written permission in advance from Prospect News.
Redistribution or copying includes e-mailing, printing multiple copies or any other form of reproduction.